The transformation and upgrading of industrial structure is the focus of China’s high-quality economic development, but what is the path of structural transformation and upgrading? This paper constructs a structural change model with variable income elasticity of demand. The conclusion shows that when the innovation of product varieties within the sector is insufficient, the continuous biased technological progress will eventually lead to the problem of excess relative supply capacity and inefficient allocation of factors, which is not conducive to structural transformation and upgrading. At this time, productive subsidies are equivalent to accelerating the technological progress of the industrial sector, which will aggravate the overcapacity of the economy and is not conducive to the structural transformation and upgrading; External demand is equivalent to expanding the saturation threshold of industrial sector, which will alleviate the problem of overcapacity caused by insufficient innovation. Therefore, the essential feature of structural transformation and upgrading is to continuously expand the saturation threshold of high-efficiency industrial sector for alleviating the demand constraints faced by the sector. The numerical simulation analysis shows that the fundamental path of the transformation and upgrading of China’s industrial structure at the present stage is to encourage non-agricultural sector product varieties innovation activities.